Investors on the prowl: the search for value

A fine bottle of red, a plush hotel room, a flat bed on a long-haul flight: with most things in life, if you pay a premium you expect the best money can buy.

However, the same can’t be said for superannuation. While super has enjoyed a huge rally of late, the nation’s $1.23 trillion retirement savings industry continues to overcharge and under deliver. And the priciest funds seem to be the worst offenders.

New research shows that if you pay a high fee to your super fund, it won’t necessarily translate into a higher rate of return.

In fact, the opposite is often the case – the bigger the fee, the smaller the return.

The average super balance posted a 17.59 per cent return in the 12 months to February 2010, according to SuperRatings. That’s a meteoric rise of around 37 per cent after the devastating falls of 20 per cent a year ago, the worst on record.

But people who are in super funds owned by the big banks may be in for a rude shock when they receive their annual statement at tax time. They may find they have been slugged with costs that have eaten away at their improved savings.

Meanwhile, members of no-frills industry funds might find themselves raking in the big returns but not paying all that much for it.

Consider the difference between the largest investment options of the non-profit industry fund AustralianSuper and retail giant Colonial First State FirstChoice Personal Super, owned by the Commonwealth Bank of Australia.

Related Quotes

Company Profile

Based on the research, someone who had a balance of $50,000 in the CBA fund and contributed $5000 a year between 2004 and 2009 would have received an annual return of 3.93 per cent. Each year they would have paid about 2.03 per cent out of their balance in fees. If they had joined AustralianSuper, they would have almost doubled their return to 7.42 per cent and slashed that fee to 0.78 per cent.

This is not an isolated example. It is indicative that pricier funds, which tend to be retail offerings from the banks, charge more but can leave their members worse off than other fund sectors.

The vocal industry super funds lobby, which commissioned the research, says it is a case of “the more you pay, the less you get".

“In the Australian super industry, for every 1 per cent extra you pay in fees, net performance falls by 1.5 per cent," according to Industry Super Network chief executive David Whiteley.

He says the negative relationship between fees and performance is proof that for-profit retail super funds are costing average workers millions of dollars in “wasteful fees" such as volume rebates and platform costs.

“The returns to retail super fund members are dragged down by the payment of commissions to financial advisers and dealer networks," Whiteley says.

“These industry kickbacks are a massive drain on the super system."

Naturally, such claims infuriate the for-profit super sector. They say financial advice is a valuable but underappreciated service and commissions make that advice affordable. And they argue that retail funds provide myriad benefits for members, unlike their no-frills competitors.

But even the Australian Prudential Regulation Authority notes that retail funds have consistently underperformed non-profit funds for years. It says this is because retail fund expenses, either explicit or embedded, lower net earnings.

The regulator does not compare the performance of individual investment strategies; rather it looks at how the entire fund has performed.

But even when you compare investment options, it is still clear that cheaper funds come up trumps.

Data from SuperRatings shows that when it comes to the balanced investment options that 80 per cent of Australians use, the lowest-cost public offer funds outperform the most expensive ones.

For example, the Sunsuper Solutions Balanced fund charges an annual fee of $352 on a $50,000 balance and posted a 5 per cent annual return for the five years to February 2010.

Meanwhile the AXA Super Directions Personal – Multi Manager Balanced fund charges four times that amount, $1409, but posted a 2.1 per cent return for same period, less than half that of the cheaper competitor.

On average, retail funds charge fees of 2 per cent, while industry funds charge about 1 per cent. This pays for administration, investment and management.

Most of the major retail funds have recently allowed people to opt out of paying commissions to financial planners. The measure is intended to reduce the cost of fees by about 25 per cent.

Super fees and performance are being examined in a federal government inquiry.

The Australian Securities and Investments Commission says the bottom line is to check what you are getting for the fees you pay. If your fund has higher fees, it must achieve a higher return on investments just to come out even compared to a fund that charges lower fees.